Don't neglect to elect, part 4

As a fourth installment in an occasional series, here are additional
tax elections for estates, partnerships, and individuals.

ESTATES

Election to treat a revocable trust as part of an
estate. Sec. 645 allows for an election to treat a qualified
revocable trust (QRT) as part of a decedent’s estate for federal
income tax purposes. A QRT is a grantor trust under Sec. 676 (with
revocation power retained by the grantor) as of the decedent’s date of
death. Accordingly, a testamentary trust cannot be a QRT.

The advantages of making the election include: the estate and
electing trust file a single Form 1041, U.S. Income Tax Return for
Estates and Trusts; the electing trust can adopt a fiscal year;
the electing trust is not subject to the active-participation
requirement under the passive loss rules for two years; the electing
trust can hold S corporation stock without terminating the
corporation’s S election; and the electing trust will be allowed a
charitable deduction under Sec. 642(c) for amounts permanently set
aside for charitable purposes. The election is made by the trustee and
executor on Form 8855, Election to Treat a Qualified Revocable
Trust as Part of an Estate, by the due date, including
extensions, of the estate’s (or in a case where there is no executor
of the estate, the filing trust’s) initial income tax return. If there
is more than one executor of the estate or more than one trustee for
an electing QRT, only one executor or trustee must sign Form 8855,
unless otherwise required by applicable local law or the governing
document. As it is possible to have more than one QRT, the trustee,
or, where required, trustees, of each QRT joining in the election must
sign Form 8855. The election is irrevocable.

PARTNERSHIPS

Election out of partnership treatment by a spousal joint
venture. If spouses co-own a business and the business is not
incorporated, a partnership may exist, and a partnership return may
need to be filed. However, if the business qualifies, the spouses can
make a qualified joint venture (QJV) election under Sec. 761(f) as an
alternative to being taxed as a partnership. A QJV is a trade or
business in which only the husband and wife are partners, each spouse
materially participates individually under the passive loss
rules, and both spouses elect QJV status. This election avoids
partnership taxation with its complexities and enhanced
failure-to-file penalties. Tax return preparation may be simpler, and
both spouses can earn Social Security and Medicare credits.

Using QJV status, all items of income, gain, loss, deduction, and
credit are divided between the spouses based on their respective
interests in the venture, and each spouse takes his or her share of
these items into account as if they were attributable to a trade or
business conducted by the spouse as a sole proprietor. Therefore, each
spouse generally reports his or her share of the items on a separate
Schedule C, Profit or Loss From Business, or Schedule F,
Profit or Loss From Farming. Each spouse must also file a
separate Schedule SE, Self-Employment Tax, if applicable. In
the case of a rental real estate business, the spouses file Schedule
E, Supplemental Income and Loss. They do not file separate
Schedules E; instead, each spouse’s separate interest is entered as a
separate property on a single Schedule E.

For QJVs reported on Schedule C, the QJV election is made by filing
a joint return and reporting all items of the business’s income, gain,
loss, deductions, and credits as described above. For QJVs reported on
Schedule E, the election is made by checking the “QJV” box on line 2
of Schedule E for each property that is part of a QJV and reporting
the items for that property interest separately on the form. The
election cannot be revoked without IRS consent.

INDIVIDUALS

Election out of alimony treatment. Under Sec.
71(b)(1)(B), alimony does not include payments that would otherwise be
treated as alimony (deductible to the payor, includible in income to
the payee) if the spouses designate in a divorce or separation
instrument that the payments not be treated as alimony. Electing to
not treat payments as alimony would be beneficial in instances where
the payor spouse’s income is primarily from nontaxable sources or
where the payor spouse’s income is sheltered by other deductions and exemptions.

The election is made by attaching a copy of the instrument
containing the designation of payments as nonalimony to the payee
spouse’s original return for each year the election applies (see Temp.
Regs. Sec. 1.71-1T(a), Q&A-8).

Election to maximize the investment interest
deduction. The deduction for individuals for investment
interest expense is limited to net investment income, which is the
excess of investment income over investment expenses. In the
calculation, net investment income does not include qualified
dividends or net capital gains unless the taxpayer elects to have
these items included as part of investment income.

Individuals can make an election to include qualified dividends and
net capital gains in the calculation of net investment income for
purposes of maximizing the investment interest deduction. If the
election is made, the taxpayer waives the right to the lower tax rate
on long-term capital gains on the amount elected to be included in net
investment income, and it is taxed as ordinary income. The election to
include net capital gains is limited to the lesser of net capital
gains from investment property or net gains from investment property.

Making this election requires some analysis, as the individual may
have sufficient net investment income without the qualified dividends
and net capital gains. Also, any unused investment interest expense
carries over to future years. Therefore, deciding whether to make the
election requires a look at future years’ marginal tax rates, expected
net investment income, and the taxpayer’s discount rate or factor for
the time value of money. To make the election, enter on line 4g of
Form 4952, Investment Interest Expense Deduction, the amount
of qualified dividends and net capital gain to include in investment
income. The election is made on the tax return for the year that the
election is effective.

Request extension of time for making an election. A
taxpayer who misses a filing deadline for a regulatory election may
request a letter ruling from the IRS granting an extension of time to
make the election under Regs. Sec. 301.9100-3. The IRS will grant
relief only for failure to timely file a regulatory election, not a
statutory election, under this provision. Relief will be granted if
the taxpayer provides evidence that establishes to the satisfaction of
the IRS that the taxpayer acted reasonably and in good faith, and the
grant of relief will not prejudice the interests of the government.

The request for the letter ruling must: state whether the taxpayer’s
return(s) for the tax year in which the election should have been made
or any tax years that would have been affected by the election is
being examined by the IRS or is being considered by an IRS Appeals
office or a federal court; state when the election was required to be
filed and when it was actually filed; include copies of documents that
refer to the election; when requested, include a copy of the tax
returns for the years the taxpayer is requesting an extension and any
return affected by the election; and, when applicable, include a copy
of returns of other taxpayers affected by the election.

In addition, the letter ruling request should contain an affidavit
by the taxpayer as to the discovery of the election’s not being filed
and why it was not filed timely and affidavits from the taxpayer’s tax
preparer and any accountant or attorney who provided advice regarding
the election. The taxpayer must pay the appropriate user fee for the
ruling request.

The letter ruling request should be made as soon as taxpayers
realize they failed to file the election. It is filed with the
appropriate Associate Chief Counsel’s Office of the IRS in Washington.

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